marketing return on investment (mroi) - management … · marketing return on investment (mroi)...

Marketing Return on Investment (MROI)This module builds on several previous modules and explains how to calculate rates of return for four types of valuation methods: comparable costs, baseline-lift, funnel conversion, and customer equity (CLV).

Authors: Paul Farris and Stu James

© 2015 Paul Farris, Stu James, and Management by the Numbers, Inc.

Marketing Return on Investment (MROI) is the estimate of the incremental financial value generated by identifiable marketing expenditures, less the cost of those expenditures as a percentage of the same expenditures

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InsightMarketing ROI can be a somewhat different animal than more traditional measures of ROI due to a fairly limited time period (such as the cost and effect of a coupon promotion). However, in other cases, such as impacts on customer equity (CLV), the impact is fairly equivalent to long-term fixed asset projects.

MBTN | Management by the Numbers

Marketing Return on Investment Defined

MROI defined in formula format:Incremental Financial Value Generated by Marketing – Cost of Marketing

Cost of Marketing

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Four MROI Valuation Methods

Valuation Methods Financial Return Assessed MBTN Module

Comparable Costs

Cost savings for achieving equivalently valuable contacts

Advertising, Web Metrics

Baseline - Lift Current period incremental sales and profits

Promotion, New Product Forecasting, Market Share Metrics I, Conjoint

Funnel Conversions

Future period incremental sales and profits based on estimated conversion rates

Sales Management II

Customer Equity Changes in customer lifetime value CLV I and CLV II

In this module, we will describe and provide examples of these four MROI valuation methods. You will find it helpful to have completed other MBTN modules as noted.

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Calculating MROI is a fairly straightforward process - select the appropriate valuation method, solve for the baseline case and then recalculate with the new marketing assumptions and plug into the formula and solve for MROI. What is not so straightforward is estimating the impact and ultimately, the valuation of various marketing activities.

In this module, we will presume the effects are known, so our focus will be calculating MROI, but remember that part of what determines the quality of an investment decision is the reliability of the assumptions and the risk associated with projected outcome.


Marketing ROI – Caveats

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In addition, frequently there can be ambiguity in the concept and measure of MROI with respect to both the time period over which it is calculated and the budget items that are considered the “investment” (denominator) for the calculation. For our example problems we will strive to be clear about both aspects. In your “real life” marketing experiences you may find that you will need to be careful to eliminate this kind of potential confusion.

Finally, the four valuation methods discussed are not necessarily isolated. One could easily have a mixture of all multiple approaches in a marketing plan. But these four methods do capture most of the valuation considerations, and it is certainly easier understand the concepts of MROI when fewer variables are in play.


Marketing ROI – Caveats

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The comparable cost approach to MROI means achieving the same marketing outcome (value) for a lower cost. In other words, two campaigns, A and B, achieve the same results, but campaign A costs $100, while campaign B costs $110.


MROI – Comparable Cost

InsightThis is probably the simplest version of MROI, but it rarely exists in its purist form. Typically, in addition to a cost differential, there is also a outcome differential (“lift”) and there may also be a difference in the quality of campaign. However, conceptually, it is helpful to consider this calculation of MROI in isolation.

Comparable Cost MROI

= Value Generated with Same Outcome / Marketing Investment

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Comparable Cost - ExampleQuestion 1: An internet retailer’s traffic is currently generated through paid search advertising, with a budget of $40,000. The CMO has estimated that through improved SEO, they could achieve the same traffic and reduce paid search expenditures to $25,000. The cost of the website redesign is estimated to be approximately $10,000 between use of an external consultant and internal expenses. What is the estimated MROI?

Answer: MROI = Value Generated with Same Outcome / Marketing Investment

MROI = ($40,000 - $25,000) / $10,000MROI = $15,000 / $10,000MROI = 150%

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Comparable Cost - ExampleQuestion 2: Poof! laundry detergent currently advertises on network TV at a cost of $14 million. FASTCAR racing approaches Poof! about a potential corporate sponsorship at a cost of $10 million that would reach the same number of viewers during racing season. What would be the comparable cost MROI for this substitution of campaigns?

Answer: MROI = Savings Generated (Same Outcome) / Marketing Investment

MROI = ($14 million - $10 million) / $10 millionMROI = $4 million / $10 million MROI = 40%

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MROI – Baseline Lift

Baseline-Lift MROI

= (Short-term Lift – Cost of Lift) / Marketing InvestmentWhere Lift = Additional value created by a specific marketing activity, such as new advertising / promotion, coupons, etc.

The Baseline-Lift valuation approach to MROI could be considered the most general case for MROI, as all the examples could fall under it. However, for our purposes, we will use it to describe short-term lifts in marketing profitability.

We’ll provide three examples of how one might calculate baseline-lift MROI: a simple promotion where the lift is provided, a lift that is estimated based on expected changes in market share, and a lift that is estimated using the hierarchy of effects.

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Simple Baseline - Lift ExampleQuestion 3: FASTCAR racing approaches Poof! about a potential driver sponsorship that Poof! estimates will generate incremental sales of approximately 600,000 units. If Poof! generates a margin of $3/unit, and the cost of the sponsorship is $1 million, what would be the MROI for this sponsorship?

Answer: MROI = (Short-term Lift – Cost of Lift) / Marketing Investment

MROI = (600,000 * $3 - $1 million) / $1 millionMROI = ($1,800,000 - $1,000,000) / $1,000,000MROI = $800,000 / $1,000,000MROI = 80%

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Market Share Estimation ExampleQuestion 4: National Motors currently has a 12% share of the electric vehicle market. They are considering a modification in the design of their vehicle that would cost approximately $5 million in design costs but would also increase the margin per vehicle by $300/unit. Based on a conjoint analysis study, their market research team has estimated that the modification would increase their market share to 14%. If total sales of electric vehicles are 1 million units this year, what is the MROI for the modification?

Answer: Current Units sold = (1,000,000 * 12%) = 120,000Est. Units Sold with Modification = (1,000,000 * 14%) = 140,000Lift = Add’l Units Sold * $300 add’l margin = 20,000 * $300 = $6,000,000

MROI = (Short-term Lift – Cost of Lift) / Marketing InvestmentMROI = ($6,000,000 - $5,000,000) / $5,000,000MROI = $1,000,000 / $5,000,000MROI = 20%

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Baseline-Lift Using Hierarchy of Effects

- or -

ititrepeat

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Definition: Forecasted volume is the sum of trial and repeat volume.

Forecasted Volume (#) = Repeat

Volume (#)Trial

Volume (#) +


Recall from the New Product Forecasting module, the formula for estimating volume using hierarchy of effects:

repeat purchases / period (units)Repeat Volume “Triers” repeat rate

(%) **=

ACV %

Trial Volume“triers”

target customers

awareness rate

trial rate***=

units tried*

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Hierarchy of Effects ExampleQuestion 5: Poof! Is considering introducing a new dishwashing detergent. Based on results from a test market, Poof! found that by investing an additional $300,000 in trial packaging design, which also cost an addition $.05 per unit, they could increase the trial rate from 3% to 9%. What is the MROI on this investment if the original trial volume estimate was 300,000 units and the original margin / unit was $.50 if we limit it to only the trial purchase?

Answer: We know, Trial Volume = target customers * awareness * ACV% * trial rateWe know that original trial volume = 300,000 and that with the new approach, we’ve increased the trial rate from 3% to 9%. Since it is multiplicative, we can just multiply the original volume * (9% / 3%).New Trial Volume = 300,000 * (9% / 3%) = 300,000 * 3 = 900,000

Now let’s factor in the margin and costs…Original Total Contribution = 300,000 * $.50 = $150,000New Total Contribution = 900,000 * ($.50 - $.05) = $405,000MROI = ($405,000 - $150,000 - $300,000) / $300,000 = -$45,000 / $300,000MROI = -15%

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Hierarchy of Effects ExampleHowever, Poof!’s newly hired brand assistant points out that perhaps there is more value to be considered after the trial period. She recalled that the increase in trial volume would likely increase purchases down the road as well. If the test market indicated that 20% of those who tried the new product would go on to purchase it on an average of twice in the next year, what would be the total MROI including both the trial and the first year of purchases?

Answer: Repeat Volume = “triers” * repeat rate * unit purchases / periodOriginal Repeat Volume = 300,000 * 20% * 2 = 120,000 unitsNew Repeat Volume = 900,000 * 20% * 2 = 360,000 units

Now let’s factor in the margin and costs for repeats…Original Total Contribution = 120,000 * $.50 = $60,000New Total Contribution = 360,000 * ($.50 - $.05) = $162,000Lift for Repeat = $102,000

Total lift = -$45,000 + $102,000 = $57,000Total MROI = $57,000 / $300,000Total MROI = 19%

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MROI – Baseline LiftBoth of the previous two examples also include changes to the margin of the product or service sold. It is important to capture any changes in the margin due to changes in cost or pricing as well as changes to the volume. Most marketing choices involve many interrelated decisions that have several impacts. ALL impacts should be considered in this analysis. In addition, the analysis should also note the time period under consideration, assumptions made, the reliability of any estimates, and the risks associated with the decision.

InsightVery few marketing decisions is made in complete isolation or with complete certainty. One has to appreciate the ambiguity and uncertainty associated with marketing. It is easy to fool oneself that once the values have been entered into a spreadsheet, that there is accuracy in the results, but that is a dangerous assumption.

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MROI – Funnel Conversion

Funnel Conversion MROI

= (Lift from Sales Funnel – Cost of Lift) / Marketing InvestmentWhere Lift from Sales Funnel = Additional value created by a new funnel, a change in the close rate within the existing sales funnel, or a change in the structure of the funnel itself.

The Funnel Conversion (or Pipeline Conversion) approach to measuring MROI is another variation on the Baseline-Lift valuation approach, but because sales cycles can often go across years, it is perhaps appropriate to discuss it as a separate case.

We’ll provide two examples of how one might calculate funnel conversion MROI: Creation of a new sales funnel and a change in the dynamics within an existing funnel.

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New Sales Funnel MROI ExampleQuestion 6: National Motors launches a content-based marketing campaign at a cost of $30,000 that generates 6,000 views of its educational video. Based on historical funnel tracking of similar campaigns, they project 12% of viewers will become qualified leads who would come for a test drive within 6 weeks and 10% of those leads will convert to a sale in 9 months. If the contribution margin per sale is $500, what is the MROI for the campaign?

Answer: New Sales = 6,000 * 12% * 10% = 6,000 * .12 * .10 = 72 new salesIncremental Total Contribution Margin = 72 * $500 = $36,000

MROI = (Short-term Lift – Cost of Lift) / Marketing InvestmentMROI = ($36,000 - $30,000) / $30,000 = 20%

InsightOne issue we haven’t explicitly discussed is the potential impact of cannibalization. Consider what would happen to the MROI if half of these sales would have been realized by existing marketing activities.

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Change in Funnel MROI ExampleQuestion 7: The following quarter, the marketing team at National Motors decided that by adding social media at an additional cost of $15,000, they would garner an additional 2,000 views of the video (8,000 total) with the same qualified lead conversion rate. They also estimated that by offering a catered meal along with a test drive, they would be able to increase the successful close rate from 10% to 25%. The meals would cost an average of $40 per lead. What would be the total MROI for this new campaign and incremental MROI for the changes to the sales funnel?

Answer: Total Qualified Leads = 8,000 * 12% = 960Cost of adding meals = 960 * $40 = $38,400Total Vehicle Sales Generated = 960 * 25% = 240Total Contribution Margin = 240 * $500 = $120,000Total Profit Generated = ($120,000 - $30,000 - $15,000 - $38,400) = $36,600Total Marketing Investment = ($30,000 + $15,000 + $38,400) = $83,400Total MROI = $36,600 / $83,400 = 43.9% (up from 20% previously)

MROI (changes) = Incremental Profit Generated / Incremental InvestmentMROI (changes) = ($36,600 - $6,000) / ($15,000 + $38,400)MROI (changes) = $30,600 / 53,400 = 57.3%

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Change in Funnel MROI ExampleNotice that one could also isolate the impact of the social media from the impact of adding the catered meals. What would be the impact of each investment if calculated in isolation?

Answers: New sales from adding social media = 2,000 * 12% * 10% = 24 new salesAdditional contribution generated = 24 * $500 = $12,000Net contribution (social media) = $12,000 - $15,000 = $-3,000MROI (social media) = ($12,000 - $15,000) / $15,000 = -20%New sales from adding meals = 6,000 * 12% * (25% - 10%) = 108 new salesCost of meals = 6000 * 12% * $40 = $28,800Additional contribution generated = 108 * $500 = $54,000Net contribution (meals) = $54,000 - $28,800 = $25,200MROI (meals) = ($54,000 - $28,800) / $28,800 = 87.5%

InsightNotice that the combined profit impact of the social media plus the meals ($30,600) is greater than adding the two together in isolation ($22,200). Take a moment to understand why this would be true. What would you do now?

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MROI – Customer Equity (CLV)

Customer Equity MROI

= (Lift from CLV valuation – Cost of Lift) / Marketing InvestmentWhere Lift from CLV valuation = Additional value created by improved retention or margin generated / period.

The Customer Equity approach to measuring MROI could also be considered baseline-lift. However, because valuation is based on CLV, often the period of measurement is years (or infinite, with some CLV valuation methods).

Let’s consider a couple of examples of how to calculate Customer Equity MROI, but first let’s review the two models for calculating Customer Lifetime Value (CLV) that we’ll use in our valuation: CLV and CLVrem, where CLVrem is used to calculate CLV for a customer that has already been acquired or is given a free trial for the first period.

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Modeling CLV: A Simple CLV Model


ASSUMPTIONS:

$MContribution per period from active customers. Contribution = Sales Price – Variable Costs**be careful not to double count variable costs of retention spending if they have been included below in $R

$R Retention spending per period per active customer.

r retention rate (fraction of current customers retained each period)

d discount rate per period

DefinitionCLV = [$M – $R] x [(1 + d) / (1 + d - r)]CLVrem = [$M - $R] x [ r / (1 + d – r)]

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Customer Equity (CLV) MROI ExampleQuestion 8: OpenSpot is a shared office space that charges customers $250 / month to use their facilities. All of their costs are fixed with the exception of the cost of processing the monthly payment, which they estimate at $20/month between the credit card fees and manual time to process the order. Currently, they have 50 full time customers and their monthly retention rate is 90%. The CFO suggests using a discount rate of 1% / month. OpenSpot’s programmer suggests automating the system and estimates that for an upfront cost of $5000, this would reduce the processing costs to 2% / month. This change would have no change on retention or the customer base. What would be the MROI for this investment?

Answer: CLVrem for a customer = ($250 - $20) * (90% / (1 + 1% - 90%))CLVrem for a customer = $230 * (.90 / .11) = $1,882New CLVrem for a customer = ($250 - $5) * (.90 / .11) = $2,005Lift = 50 * ($2,005 - $1,882) = $6,150


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Customer Equity (CLV) MROI ExampleQuestion 9: OpenSpot hopes to increase its retention rate by offering each customer a free locker for storage. The cost of the lockers is $3,000 and based on their exit surveys, they estimate that it will increase their retention rate to 92%. If they’ve decided to move forward with the automated order system, their new margin per customer is $245 / month. Presume that adding lockers would not change the size of their customer base. What would be the MROI for this investment?

Answer: CLVrem for a customer = $245 * (.90 / .11) = $2,005New CLVrem with improved retention = $245 * (92% / (1 + 1% - 92%))New CLVrem = $245 * (.92 / .09) = $2,504Lift = 50 * ($2,504 - $2,005) = $24,950


InsightIt is easy to see the large impact of small increases in customer retention rates. But, it is also a more uncertain estimate because it extends far into the future.

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Marketing Return on Investment

MROI defined in formula format:Incremental Financial Value Generated by Marketing – Cost of Marketing

Cost of Marketing

While this module has not covered all potential examples of how one might estimate MROI, it has provided several examples of the more common approaches. Remember, the underlying calculation is just the definition as shown below.

InsightRemember that while the use of these various valuation methods is relatively straightforward, estimating the impact and ultimately, the valuation of various marketing activities, is not. Appreciating the risk, uncertainty, and possible interplay of the various choices is an essential part of the decision process. However, MROI can improve the understanding of the financial implications of decisions and ultimately, the quality of the decisions.

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Further Reference


Marketing Metrics by Farris, Bendle, Pfeifer and Reibstein, 2nd edition, chapter 8.

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marketing return on investment (mroi) - management … · marketing return on investment (mroi)...

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